After a period in which the Securities and Exchange Commission turned most of its attention to misdeeds involving collateralized debt obligations, subprime mortgages and similar products of the financial crisis, the SEC appears to be focusing on accounting fraud and faulty financial reporting again — with a vengeance, insiders say.

In July, for instance, the commission announced that newly formed SEC task forces will explore the use of the regulator’s increased data-mining capability to detect financial-reporting fraud at corporations. Their work, according to the SEC, will be based on tools related to its recently assembled Accounting Quality Model.

Securities and Exchange Commission Chair Mary Jo White

Securities and Exchange Commission Chair Mary Jo White

Such activity, along with statements alluding to increased emphasis on accounting fraud by SEC Chair Mary Jo White, suggests the commission is revving up its fraud-detection engines again. That point was made several times during a Directors Roundtable program on accounting crises held last week at the New York City offices of Weil, Gotshal & Manges. According to the assessments of a number of corporate and regulatory insiders who spoke, a June New York Times headline is a more than accurate representation of what’s going on at the SEC in terms of accounting fraud regulation: “The S.E.C. Is ‘Bringin’ Sexy Back’ to Accounting Investigations.”

If that’s true, it would represent a marked shift in the regulatory agenda. The SEC’s numbers, in fact, reveal a distinct trailing off in the commission’s investigative activity in this area after 2008. In fiscal-year 2012, for instance, the commission opened 124 financial fraud and issuer disclosure investigations, a steep descent from 304 in 2006 and 228 in 2007.  There was also a slowdown in accounting-fraud-related cases specifically, with the SEC filing 79 of them in 2012 compared with 219 in 2007.

Besides the regulatory attention claimed by real estate, investment and banking-related fraud following the collapse of Lehman Brothers, some have attributed the fall off in financial-reporting-related probes to the successes of the Sarbanes-Oxley Act. The regulation improved internal controls so much, the theory goes, that fraudulent activity itself dwindled.

But Harvey Kelly, a managing director and global head of financial advisory services at AlixPartners, strongly disagreed. “I subscribe to the theory that Sarbanes-Oxley did not cure all, and I’m sure some people’s eyes would bug out if they saw some of things that I’ve seen happen in this day and age, whether it’s the emails people write or flagrant accounting abuse,” he said.

In fact, the abuses are much more pervasive than the presence of outright fraud would indicate, according to Kelly. They include “aggressive practices to get transactions into a quarter, to improve the profitability for a particular time period,” he said, noting that such activities on the fringes of fraud have also attracted less attention from regulators than they would have before the financial crisis.

That period is over, however. “Without a doubt, I can tell you that I’ve been to various SEC offices in the last several months for lots of different clients, and there is no question that they are taking this topic very seriously” and employing their new technological tools to search for fraud, according to the consultant.

What’s more, investigators are paying particularly close attention to whistleblower complaints. “It’s just become fashionable, quite frankly, to fire off a letter to the SEC if you’re a disgruntled employee or upset about something, whether or not there’s any merit” to those complaints, Kelly said. “And there’s certainly an uptick in the [regulators’] attention.”

Another indication of the SEC’s new-found aggressiveness is its recent insistence that fraudulent companies and individuals admit publicly to the facts of the fraud. Previously, the commission’s policy had been to settle cases on “a no-admit-no-deny basis,” Andrew Ceresney, the SEC’s co-director of its enforcement division, noted in a September speech.

That approach, which helped the commission get fast results, conserve resources and avoid litigation risk, “will typically trump the need for admissions in order to better achieve the goals of our enforcement program,” according to Ceresney.  Recently, however, the SEC changed that approach and is now seeking admission in cases of criminal or regulatory settlements.

Further, Ceresny said, there’s “a group of cases where a public airing of unambiguous facts — whether through admissions or a trial – serve such an important public interest that we will demand admissions, and if the defendant is not prepared to admit the conduct, litigate the case at trial.”

Speaking at last week’s program, Christopher Garcia, a partner, at Weil, Gotshal and a former  chief of the Securities & Commodities Fraud Task Force of the U.S. Attorney’s Office for the Southern District of New York, predicted that while there will continue to be no-admit-no-deny settlements, there will be fewer of them.

Indeed, the SEC’s policy of demanding that fraudsters acknowledge their misdeeds is “here to stay,” Garcia said.  Further, “the extent to which people admit their conduct,” he added, “makes it more likely that the government will be successful in extracting admissions in the future. I think the SEC is very serious about this.”

, , , , ,

6 responses to “Accounting Fraud Gets Sexy at the SEC”

  1. The problem is that, despite the quote to the contrary in the article, people’s eyes would not bug out if they saw what was going on. It is far too easy for the average American to: pretend to not be able to understand, assume someone else is watching the store, and feel that there is no effective way to improve the situation.

  2. “In fiscal-year 2012, for instance, the commission opened 124 financial fraud and issuer disclosure investigations, a steep descent from 304 in 2006 and 228 in 2007. There was also a slowdown in accounting-fraud-related cases specifically, with the SEC filing 79 of them in 2012 compared with 219 in 2007.”

    You can’t build a castle without a solid foundation. Similarly, you can’t expect Dodd-Frank reforms to succeed without first strengthening the regulatory community.

    In 2012, 687,000 out of 1.6 million federal employees responded to the U.S. Office of Personnel Management (OPM) Federal Employee Viewpoint Survey. Only about half (52%) of federal employees responding to the survey indicated that they were part of a results-oriented performance culture.

    About 70% of U.S. Securities and Exchange Commission employees responded to the survey. Only about one in three (36%) of SEC employees responding to the survey indicated that they were satisfied with the policies and practices of their senior leaders.

    In the Securities and Exchange Commission’s 2012 Financial Report, the Commission reported spending $552.3 million to foster and enforce compliance with federal securities laws while meeting or exceeding only 41% of its performance targets.

    Within most federal agencies, human capital is woefully underutilized. In the aggregate, mismanagement leaves billions of dollars on the table in expenses that could have been saved.

    Federal programs have ended up with multiple sources of policy, training, surveys, assessments and issue reporting hotlines, including:
    – Office of Personnel Management (OPM) Federal Employee Viewpoint Survey
    – Office of Special Counsel (OSC) E-Filing System
    – Federal Code of Ethics

    Of all federal programs, the SEC has the most to gain by consolidating these federal resources to maintain a single-source of actionable intelligence to spend taxpayer dollars effectively, treat employees fairly, and hold leadership accountable for meeting performance targets.

  3. The Sarbanes-Oxley argument is bogus because if it were working so well, how did so much fraud sweep the financial world leading up to 2008….and continue on AFTER the financial crisis?

    It would be great for the integrity and reputation of the US financial system if the SEC DID get sexy about accounting fraud. Maybe some of the uncountable population of financial fraudsters would finally go to jail

Leave a Reply

Your email address will not be published. Required fields are marked *